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Cfm 303: Portfolio And Investment Analysis Question Paper

Cfm 303: Portfolio And Investment Analysis

Course:Bachelor Of Commerce

Institution: Kca University question papers

Exam Year:2009

1
UNIVERSITY EXAMINATIONS: 2008/2009
THIRD YEAR STAGE 1 EXAMINATION FOR THE DEGREE OF
BACHELOR OF COMMERCE
CFM 303: PORTFOLIO AND INVESTMENT ANALYSIS
DATE: APRIL 2009 TIME: 2 HOURS
INSTRUCTIONS: Answer question ONE and any other TWO questions
QUESTION ONE
a) Briefly state and explain two factors which influence the efficiency of a portfolio. (2 Marks)
b) Explain the three most commonly used methods in the evaluation of portfolio performance.
(6 Marks)
c) Mr. Kobe is contemplating acquiring Mfalme Flower Company. Incremental cash flows
arising from the acquisition are expected to be the following.
Average of years Net cash flows (sh. Millions)
1 – 5 50
6-10 90
11- 8 130
Mflame has an all-equity capital structure. Its beta is 0.8 based on the past 60 months of data
relating to its excess returns to that of the Market. The risk free rate is 9% and the expected
return on the Market portfolio is 14%.
What is the maximum price that Kobe should pay for Mflame? (6 Marks)
d) Using a numeric example, illustrate and explain the pay-offs of a futures option and a futures
contract. (4 Marks)
2
e) The return on Malibu Oil Ltd’s ordinary shares has been found to be influenced by three risk
factors, X1 X2 and X3. These factors are explained below:
X1 - An index reflecting energy costs
X2 - Changes in the level of stock Market prices
X3 - Changes in the exchange rate of the local currency relative to other
currencies
The risk premium and the beta associated with each risk factor are shown below:
Risk factor Risk Premium Beta
X1 4.5% 0.7
X2 7.5% 0.3
X3 11.25% 1.1
The risk free rate is 8.25%.
Determine the required rate of return on Malibu Oil Ltds’s shares using.
i) Arbitrage pricing model (APM) (3 Marks)
ii) Capital asset pricing model (CAPAM) (3 Marks)
f) An analyst is interested in using the Back and Scholes model to value a call option with the
following characteristics.
iii) The Market price of the security is sh.33 and so is the exercise price.
iv) Time to maturity is 6 months while the risk free rate is 10%.
v) The standard deviation of the security returns is 0.3.
Calculate the value of this option. (6 Marks)
QUESTION TWO
a) Briefly explain three practical uses of the capital asset pricing model. (6 Marks)
b) Mr. Mlachake is currently holding a portfolio consisting of shares of four companies quoted on
the Bahati stock Exchange as follows;
Company Number of
shares held
Beta equity coefficient
Market price per
share
Expected return
on equity in the
next year %
A 20,000 1.12 65 18
B 30,000 0.89 50 23
C 30,000 0.70 45 11
D 20,000 1.60 80 17
3
The current Market return is 14% per anum and the treasury bills yield is 9% per annum
i) Calculate the risk of Mlachake’s portfolio relative to that of the Market. (5 Marks)
ii) Explain whether or not Mlachake should change the composition of his portfolio. (9Marks)
QUESTION THREE
a) State and briefly explain the relationship between a call option’s price and the following
determinants.
(i) The underlying stock’s price. (2 Marks)
(ii) The exercise price (2 Marks)
(iii) The time to maturity (2 Marks)
(iv) The risk-free rate (2 Marks)
b) The following data relate to call options on two shares, A and B.
Calls
A B
Months to expiration 3 9
Risk free rare 10% 10%
Standard deviation of stock returns 40% 40%
Exercise price sh.55 Sh.55
Stock price sh50 Sh.50
Using the Black and Scholes Option Pricing Mode.
(i) Calculate the price of call option A. (10 Marks)
(ii) Of the two call options, which would you expect to have the higher price?
Why? (Do not compute) (2 Marks)
QUESTION FOUR
a) Goldstar manufacturing Limited is evaluating an investment opportunity that would require an
outlay of sh.100 million. The annual net cash inflows are estimated to vary according to
economic conditions.
Economic conditions Probability Cash-flow (sh. Million)
Very good 0.1 35
Good 0.45 28
Fair 0.30 24
Poor 0.15 18
4
The firm’s required rate of return is 14 percent. The project has an expected life of six years.
Compute the expected net present value of the proposed investment. (6 Marks)
b) Pwani limited is planning advertising campaigns in three different Market areas. The
estimates of probability of success and associated additional profits in each of the three
Markets are provided below:
Market I Market 2 Market 3
Profit
Sh.
Probability Profit
Sh.
Probability Profit
Sh.
Probability
Fair 10,000 0.4 5,000 0.2 16.000 0.5
Normal 18,000 0.5 8,000 0.6 20,000 0.3
Excellent 25,000 0.1 12,000 0.2 25,000 0.2
Required
(i) Compute the expected value and standard deviation of profits resulting from
advertising campaigns in each of the Market areas. (6 Marks)
(ii) Rank the three Markets according to risksness using the coefficient of variation.
(2 Marks)
c) Discuss the efficient Market hypothesis. (6 Marks)
QUESTION FIVE
a) Explain any 5 conceptual differences between portfolio theory and CAPM (10 Marks)
b) Discuss any 5 differences between the arbitrage pricing model and the capital Asset pricing
model. (10 Marks)

Cfm 303: Portfolio And Investment Analysis Question Paper

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